Aurora Borealis
1 February 2015 CFA Institute Journal Review

Access to Management and the Informativeness of Analyst Research (Digest Summary)

  1. Derek Bilney, CFA

Changes to stock recommendations by analysts at brokerage firms that host investor conferences with companies tend to have a more significant impact on stock prices than revisions from analysts at brokerage firms that do not host conferences, particularly if there is evidence of an ongoing relationship between the brokerage firm and the company.

What’s Inside?

Regulation Fair Disclosure (FD) was enacted in 2000 with the aim of ensuring that company management disclose material information to all investors at the same time. Broker-hosted investor conferences are designed to provide select clients of the broker with exposure to company executives. The authors test whether post-conference research by the hosting analysts (in the form of stock recommendation changes and revisions to earnings estimates) is more timely and accurate than research issued by nonhosting firms.

How Is This Research Useful to Practitioners?

The authors show that there is a larger price reaction to stock recommendation changes and earnings revisions issued by analysts at brokerage firms that have recently hosted the company at an investor conference. This price reaction is stronger in the quarter following the investor conference and does not appear to be a short-term overreaction. The authors provide evidence that this price impact is not driven by characteristics of the firm (e.g., size, investment banking affiliation), characteristics of the analyst (e.g., experience, reputation, the nature of the recommendation), or characteristics of the company (e.g., size, value, volatility, momentum). An ongoing relationship, as evidenced by a series of investor conferences involving the company, leads to stronger results. The authors also confirm that earnings forecasts of analysts involved in the conferences tend to be more accurate. They highlight that these findings do not necessarily contravene the intention of Regulation FD because the analysts may use the mosaic theory of information gathering to build their investment thesis.

The authors’ findings are particularly relevant for investors running systematic (quantitative) investment processes that use stock recommendations and earnings revisions. Placing additional weight on revisions issued by an analyst at a firm that hosts investor conferences may lead to stronger portfolio performance.

How Did the Authors Conduct This Research?

The authors gather data on stock recommendations from the I/B/E/S database for 2004–2010. Changes to stock recommendations following quarterly earnings announcements and company guidance announcements are excluded. Information on broker-hosted investor conferences is sourced from Bloomberg Corporate Events Database and merged with the changes in stock recommendation data and price and volume data from CRSP. They define a number of dummy variables for each recommendation change to indicate whether the company had presented at an investor conference hosted by the brokerage firm and whether the recommendation change occurred less than 63 days after the conference.

To confirm that the identified outperformance is purely a function of the conference relationship, the authors perform a regression that includes a series of dummy variables to control for characteristics of the recommendation, brokerage firm, analyst, and company. Separate regressions are run to test whether there is a stronger price reaction if there is evidence of a long-term relationship between the broker and the company as measured by the number of conferences hosted by the firm. The timeliness of the recommendation is tested by comparing the price reactions to recommendation changes before and after conferences. Finally, the authors test upgrades and downgrades.

Annual I/B/E/S earnings forecasts from 2004 to 2010 are used to test the hypothesis that analysts at firms that host investor conferences are better at forecasting future earnings. The period of investigation is relatively short, possibly limited by the data held in the Bloomberg Corporate Events Database.

Abstractor’s Viewpoint

Earnings revisions and changes to stock recommendations have long been a rich source of information for systematic investment processes. Although each investment firm processes this information uniquely, there still tends to be significant crowding across the market. The authors describe an approach to further fine-tuning this signal by conditioning on the possible strength of the company/broker relationship. It should be noted that it is a relatively simple modification to the underlying signal, and there is a risk that the premium becomes difficult to capture.

Interestingly, the results for analyst downgrades are similar to those for upgrades. It would be interesting to investigate whether the relationship between the hosting firm and the company is affected by a negative revision to a stock recommendation and the willingness of analysts to risk damaging relationships with company executives that they have worked hard to build. Finally, although the authors comment that their findings do not necessarily suggest that Regulation FD is being violated, the findings could suggest that participants may not necessarily be acting within the spirit of the law.

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